Far from dousing it, govt is fuelling further food inflation

The spurt in food inflation in the week to 15 October is further evidence that the government is fighting a losing battle on this front.

Barely two days after the Reserve Bank of India (RBI) announced a possible pause in interest rate hikes from December on the assumption that wholesale price (WPI) inflation will start falling from November, primary articles inflation - which accounts for 20 percent of the WPI - showed a rise from 11.18 percent to 11.75 percent while the food inflation component rose more sharply from 10.60 percent to 11.43 percent.

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But that’s the good news. The bad news is that even as RBI Governor Duvvuri Subbarao was hoping for help from fiscal consolidation and reformist policies to help him defeat inflation, the UPA government was fuelling it further. It announced a sharp 15-38 percent jump in minimum support prices (MSP) for rabi wheat and other commodities.

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Firstpost believes that this is further evidence that the government’s policies are driven by the need for short-term electoral gains - never mind what happens to inflation. Both the Uttar Pradesh and Punjab elections are due in a few months and the farm vote is important in both states. Plus, Rahul Gandhi is hoping to make his mark at least in UP. In the past we have argued that what we are seeing is not just inflation, but Rahul-flation - policies driven by the need to show Rahul in good electoral light.

According to BusinessLine, “Ever since the UPA Government came to power in 2004, the MSP for wheat has more than doubled after factoring in the latest hike. Besides wheat, the Centre’s focus this time has been on oilseeds, the MSPs of which have been hiked by 35-38 percent.”

While these MSPs are for the rabi crop that will come in only next year, what is clear is the potential for inflation that the government is beginning to build up for the future - when the RBI has promised a drop in the WPI to 7 percent by March 2012.

Food articles account for a 14.34 percent weight in the WPI, and the government has been consistently raising MSPs - especially during election time - to compensate farmers for rising input costs, including the cost of labour due to the implementation of the National Rural Employment Guarantee Act (NREGA). Wages under NREGA are again indexed to inflation.

An analysis by V Kumaraswamy in Business Standard shows that the super-large hike in MSP in 2008-09 was probably the single largest cause of roaring food inflation - and that hike was done only because of the elections in 2009, after benign increases in the years before. The slow pace of price increases before that had led to unviable farming and farmer suicides.

Says Kumaraswamy: “In just one year - 2008-09 - MSPs of most foodgrains have been increased by 30 percent to 75 percent. The steep increase in 2008-09 could only be the result of political arithmetic with ensuing elections. This genie is not the handiwork of market forces where either demand grows faster, leading to supply shortfalls, or cost inflation in key inputs (which) create price spirals: it is solely the by-product of administrative action.“Since neither NREGA nor MSP is going away anytime soon, the policy-induced fillip to food inflation is here to stay - and could get worse in the run-up to the next elections in 2014 - as it happened in 2008-09.

But even in the interim, other factors are messing up the fight against inflation. For example, the fall in the rupee against the US dollar is keeping fuel prices higher than they need be, but the RBI is in no mood to intervene in the foreign exchange market to prop the rupee.

The RBI governor said as much after he announced his credit policy on Tuesday. He told The Times of India in no uncertain terms that “we will not use exchange rate for inflation management.”

This means even as global commodity prices stay strong, the weak rupee will inflate fuel bills further and the RBI will do nothing about it. Fuel, power and light account for nearly another 15 percent in the WPI.From 15 October, railway freight rates will go up by 15 percent as the railways impose a busy season charge on all cargoes. This will feed through to overall inflation in the coming weeks.

The power ministry, meanwhile, has asked states to write off over Rs 1,00,000 crore of the losses of their power distribution companies. This rescue, if it happens, will damage state balance-sheets severely unless power tariffs are raised or the centre rushes in to compensate them for the losses. All these actions will be inflationary.

We haven’t seen the last of high-pressure inflation as yet. In fact, we are fuelling it further.